Personal Loan for Debt Consolidation: Is it Your Best Option?

personal loan for debt consolidation

When debt consolidation is right for you, there are several ways to go about it. One of those alternatives is a personal loan for debt consolidation. If you consolidate debt with a personal loan, you can put an expiration date on your debt, improve your credit score almost immediately and achieve financial well-being.

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How a personal loan for debt consolidation can help

If your credit card balances are too high, or you have too many accounts with balances, or you’d just like to pay a lower interest rate, debt consolidation may help you. Debt consolidation with a personal loan offers a few advantages:

  • Fixed interest rate and payment
  • Replace multiple payments with one
  • You repay your balance in a finite term
  • Personal loan interest rates are lower than credit card rates
  • Reducing or eliminating credit card balances can increase credit score fast

One problem with credit cards is that borrowers can get comfortable with a minimum payment that does little to pay down the balance. making the minimum payment can cause your debt to hang around for decades. Even if you stop using the card. If you owe $10,000, are paying the average credit card rate of 17% and make a minimum payment of $200, you’ll take 88 months to zero it out and pay over $7,500 in interest.

A personal loan with the average rate of 10% and a five year term only increases your payment by $12. And you’ll be free of your debt in five years and pay just $2,748 in interest.

Related: Repair Your Credit With a Personal Loan

When debt consolidation is right for you

Debt consolidation with a personal loan may be right for you if you meet these requirements:

  • You are disciplined enough to stop carrying balances on your credit cards
  • Your personal loan interest rate will be lower than your credit card interest rate
  • You can afford the personal loan payment

If all of those things don’t apply to you, you may need to look for alternative ways to consolidate your debt.

Related: Credit Score Needed for a Personal Loan

When you don’t have the discipline for debt consolidation

You know yourself. If you are not 100% sure of your ability to leave your credit cards alone once you pay them off, don’t consolidate debt with a personal loan.

You may benefit from credit counseling with a reputable non-profit association, and perhaps a DMP (debt management plan). The DMP is a form of debt consolidation.

How does a DMP work? The counseling agency contacts your creditors and informs them that it will be making payments on your behalf. You make a single payment to the counselor. The agency distributes it among your creditors. Often, counselors can negotiate lower interest rates or payments. You’ll have to close your cards to get in the program.

If you can’t clear your debt within five years, you might consider bankruptcy or debt settlement. These are “nuclear” options that can make insurmountable debt go away fast. But there are consequences and costs. It’s not something to take lightly.

When your personal loan interest rate won’t be lower

If you have credit cards with low (or even zero) introductory interest rates, it would be silly to replace them with a more expensive loan. However, some accounts offering zero interest also have a clause that allows the creditor to charge you a high interest rate back to Day One if you don’t pay off the balance before an established deadline.

In that case, you may want to use a personal loan to clear it before the penalty rate kicks in.

Some consumers are able to successfully consolidate credit card debt with a new credit card. Some have introductory interest rates as low as zero percent for up to 18 months. They usually have a fee (typically 3%), but you can save a lot of interest if you pay your balance down fast.

For instance, if you owe $10,000 and transfer to a zero-interest credit card, your balance initially increases to $10,300. Pay $200 a month for 18 months and you’ll owe $6,700. Take a three-year personal loan at 10% and your payment will be $217 per month. Total cost? $1,383 for the balance transfer and the interest.

Personal loan interest rates average about 7% lower than credit cards for the same borrower. but if your credit rating has suffered since getting the cards, you may not be able to get a better interest rate. You may want to work with a credit counselor in that case.

When you can’t afford the personal loan payment

If you are just squeaking by making the minimum payment on a fistful of credit cards, you may not be able to lower your payment with a personal loan. If your minimum payment on $10,000 of credit card debt is just $200, and the best personal loan interest rate available to you is 15%, your payment, depending on your loan term, would be:

  • 5 years: $238
  • 3 years: $347
  • 2 years: $485

If your credit isn’t good enough to qualify you for a lower interest rate, or your income is insufficient to make a higher payment than your minimum, you may be a candidate for debt management or debt settlement. Contact a reputable non-profit credit counselor to see what your options are.

Related: Personal Loan Interest Rates (How to Pay Less)

Keys to successful debt consolidation

Consolidating debt with a personal loan can be smart. You can save money and improve your credit rating.  Follow these tips to ensure a successful debt repayment:

  • Find a personal loan with a lower interest rate than you’re currently paying
  • Make sure that you can afford the payment. Sometimes, to repay debt quickly, your payment must increase
  • Consider combining a personal loan with a zero-interest balance transfer card
  • Control your spending, or get professional counseling
  • Stop using your credit cards, and stop carrying balances.

The worst thing you can do is run up your credit cards again once the balances are zeroed out. the most important thing to remember about consolidating debt with a personal loan is that you still owe the money. Moving debt from credit cards to a personal loan does not make it magically disappear.  But stick with your repayment schedule, refrain from using your cards, and watch your balance disappear in time.

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